Morgan Stanley takes $1bn private equity hit

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The Independent Online

Morgan Stanley became the second major Wall Street bank in as many days to admit it had taken a $1bn-plus hit on its private equity loan portfolio as a result of the summer's credit market convulsions.

And it admitted its trading desks had shouldered a further $480m (£240m) loss after normally placid computer-based trading programs went haywire last month.

Investors reacted with disappointment to the figures, which were worse than forecast and were accompanied by a warning by Morgan Stanley's incoming chief financial officer that it could take up to six months for the credit markets to return to normal.

The results also added to an air of nervousness before today's quarterly figures from Goldman Sachs and Bear Stearns, respectively the biggest and the most heavily credit-focused of the Wall Street banks.

Morgan Stanley's profits for the three months to the end of August were $1.54bn, down 17 per cent on the same period a year ago and 41 per cent lower than the previous, record-breaking, quarter. The trading loss on so-called "quant" trading strategies last month and the credit losses were partially offset by strong equity trading revenues and investment banking fees.

Wall Street banks are sitting on more than $300m of loans made to fund private equity buyouts. These loans are normally parcelled up and sold on to other investors, but many such investors have fled the market and those that remain are no longer willing to pay as much for high-risk debt.

Morgan Stanley had to write down the value of its portfolio of loans by $1.2bn, the finance chief, David Sidwell, said. Lehman Brothers said on Tuesday it had made a similar write-down of "well above" $1bn. Both banks got a one-time accounting gain of several hundreds of millions of dollars because their own corporate debt is cheaper to buy back, meaning that the net write-downs were less than $1bn.

Mr Sidwell, who retires at the end of the year, went out of his way to explain how the loans had been revalued – a key question for analysts, many of whom fear that banks are sitting on hidden losses because there has not been a liquid market for debt so values can be checked against real prices.

He said valuations had been checked by employees outside the groups that wrote the loans, and were subject to scrutiny by auditors. The Securities and Exchange Commission, Wall Street's regulator, is also believed to have been examining banks' practices.

Colm Kelleher, who is taking over from Mr Sidwell, said it would take two more quarters for the debt markets to normalise, and different parts of the market would recover at different paces. There are signs mortgage-backed securities are being traded again, he said, but more exotic products used to wrap together and sell high-risk debt may no longer be viable. "We cannot be certain about which of these distribution models will be as efficient as they were."